As we begin December, Christmas parties are looming (in spite of being leaner than in previous years). Many events may involve drinking, and sometimes it worth remembering this speech on beer from Cheers. "Well ya see, Norm, it's like this... A herd of buffalo can only move as fast as the slowest buffalo. And when the herd is hunted, it is the slowest and weakest ones at the back that are killed first This natural selection is good for the herd as a whole, because the general speed and health of the whole group keeps improving by the regular killing of the weakest members. In much the same way, the human brain can only operate as fast as the slowest brain cells. Excessive intake of alcohol, as we know, kills brain cells. But naturally, it attacks the slowest and weakest brain cells first. In this way, regular consumption of beer eliminates the weaker brain cells, making the brain a faster and more efficient machine. That's why you always feel smarter after a few beers."

The proposed plan of freezing interest rates for “subprime” borrowers has been like hitting the proverbial bee’s hive with a stick. Currently, analysts are estimating a 20% loss due to subprime delinquencies & foreclosures, half of which will not be impacted by loan modifications as borrowers don't fit the category of "borrowers who could keep property if the loan was kept at a low fixed rate for a longer time period". It's cheaper for servicers to do a blanket modification and universally modify all loans meeting some generic requirement based on FICO, LTV, etc.  However, that might mean they end up modifying a subset of loans whose borrowers won't repay regardless of the extension and so the original 20% losses that the market is already pricing in and wouldn't be improved in a meaningful way. Many point out that taxpayers should not bear the burden of bailing out borrowers who may or may not have been fully truthful on the applications, and ask why they should be allowed to keep artificially low rates while prime borrowers who are current on their mortgages pay higher rates. “Borrowers had a choice in the loans they got, and taxpayers should have a choice in the way their tax money is spent” said one taxpayer advocate.

With losses in the billions making the newspapers every day, some say that even a $400 billion loss does not look all that large compared to the vast size of the US financial markets. “It is just equivalent to one bad day in the stock market.”  But there is a big difference between stock market losses, which primarily hit long-only investors, and mortgage credit losses, which are mostly borne by leveraged investors such as banks, broker-dealers, hedge funds, and government-sponsored enterprises. Long-only investors passively accept a hit to their net worth, while leveraged players actively scale back lending to keep their capital ratios from falling.  For example, a bank that targets a constant capital ratio of 10% needs to shrink its balance sheet by $10 for every $1 in credit losses, all else equal. So if a leveraged investor sees $200 billion of the $400 billion aggregate credit loss, they might need to scale back their lending by $2 trillion.  Even if this occurs gradually, and even if there are some offsets from reduced credit demand and increased lending by other sectors, the drag on economic activity could be substantial.

No one is saying that rates are high. In fact, according to FHLMC 30-year mortgages hit a two-year low last week. 30-year A-paper conventional mortgage rates dropped to an average of 6.10%, their lowest level since the week ended Oct. 13, 2005, when they averaged 6.03%. 15-yr mortgage rates declined to their lowest level in more than a year, falling to 5.73%. One-year adjustable rate mortgages rose slightly to an average of 5.43%. Speaking of notable achievements, for the first time in nearly thirteen years U.S. home prices experienced a quarterly decline.

Guarantee Bank announced that their STATED INCOME (STATED INCOME VERIFIED ASSETS) program has been changed slightly, and will need a completed, signed, and dated final Uniform Residential Loan Application, FNMA Form 1003 with employment and income stated, but that salaried borrowers are not permitted. Self-employed borrowers will be permitted, as will unearned or passive sources of income.

Early last month the National Association of Mortgage Brokers (NAMB) introduced the Lending Integrity Seal of Approval (LISA). The seal is designed to help consumers identify individual mortgage brokers and loan officers who “meet the industry’s highest standards for knowledge, professionalism, ethics and integrity”. Brokers must meet several criteria including attaining membership in NAMB, possessing a current state-issued mortgage license or registration, submitting three business references, passing a national criminal background check, etc. The process takes about six weeks.  The LISA program will be made available to mortgage brokers and loan officers through state mortgage associations affiliated with NAMB. The public will be able to see the seal of approval displayed in advertisements and by brokers who meet the criteria some time in early 2008.

Back to the current market, with the 10-yr at 3.92 and mortgages improving! There are five pieces of economic news that may affect mortgage rates this week. The first is this morning’s November manufacturing index from the Institute for Supply Management (ISM), which measures manufacturer sentiment - current forecasts call for a small decline in sentiment from October to November. October’s reading was previously announced as 50.9. Wednesday morning is the release of the revised 3rd Quarter Productivity report. This index is expected to show an upward revision from the preliminary reading of worker productivity. We also have October’s Factory Orders, similar to last week’s Durable Goods Orders release except that this one includes orders for both durable and non-durable goods. Analysts are expecting to see an increase of approximately 0.4%. Friday also brings us the release of two reports: November’s Employment report early Friday morning (current forecasts call for a slight upward change in the unemployment rate to 4.8%, new payrolls up approximately 75,000 and an increase of 0.3% in average earnings), and December’s preliminary reading to the University of Michigan’s Index of Consumer Sentiment.